The Best Deck Chair on the Titanic

A Contrarian Looks at the Evidence

by Len Oppenheim

The minority is sometimes right; the majority is always wrong. —G.B. Shaw

As you read these columns it will undoubtedly become more and more obvious to you that I am a “contrarian.” I certainly resonate with the observation by George Bernard Shaw. As a contrarian, my tendency is to buy stuff that is unpopular—or, as it is known in the trade, "out of favor.” Stuff that is out of favor is usually cheap. However, that which is cheap may stay cheap for a long while, and value or contrarian investors must exercise patience and wait for others to come aboard.

In the short to intermediate term the markets are driven by momentum. In the long run markets are driven by value. This concept was best expressed by Benjamin Graham, the father of “value investing” and mentor to Warren Buffet. Graham said, “The stock market is a voting machine in the short run and a weighing machine in the long run.”

If you watch CNBC you will see a parade of guests, most of whom are analysts or portfolio managers. After some polite discussion, the interviewer, especially if she happens to be Maria Bartiromo, a.k.a. “The Money Honey,” will ask, “So what should we be buying now? Our viewers want to know what to do with their money.” The guests, all intelligent and successful, will then name one or more stocks that they think will do well, “even if we are in a bear market.” I have news for these guys and gals: in a bear market approximately 90 percent of all stocks go down. In other words, the odds of the stock pick going up are 9 to 1 against. Picking individual stocks in a bear market is said to be looking for the best deck chair on the Titanic. As I explained in my column last month, market timing is critical, and individual investors should try to develop the skill and discipline of identifying secular trends and avoiding owning stocks during secular bear markets.

How do I know we are in a secular bear market and that prices are going lower in the coming months or years? The answer is that I do not know. All I can do is look at the evidence and try to assess the probabilities.

Stock prices reflect a number of factors. Historically, earnings are a big factor in how investors place a value on companies and their stocks. It appears that corporate earnings and corporate profit margins have peaked. If for no other reason than “reversion to the mean,” it is highly probable that margins and therefore earnings are heading lower. Moreover, we are in the midst of what is likely to turn out to be a historic credit crunch and de-leveraging of our entire financial infrastructure. Highly credible analysts such as Nouriel Roubini and Bridgewater Associates are forecasting that before the write-offs of debt and derivatives has run its course, losses will total about $1.5 trillion. If that is the case, we are only in about the third inning of a nine-inning game that could possibly go into extra innings. De-leveraging is going to be very painful for financial corporations, individuals, and even state and local governments. The result should be a very serious recession or worse. As earnings go down, so will stocks. That is my story and I am sticking to it!

My contrarianism runs much deeper than just buying out-of-favor stocks. I am extremely skeptical of government statistics and data. If the government were forced to use generally accepted accounting standards, our stated deficits would dwarf the reported data. Credible projections indicate that by 2040 Social Security and Medicare will consume the entire Federal Budget. Thanks to the Clinton and Greenspan “hedonic adjustments” to the Consumer Price Index (CPI), government says inflation is about 4 percent when in truth it is running at about 11 percent. Given the method of calculating the Gross Domestic Product, this understatement of the true rate of inflation is why “officially” we are not in a recession, when in fact if the accounting were reflective of reality, the GDP would be deep into negative territory. Furthermore, the exclusion of “discouraged and marginally attached workers” results in the stated unemployment rate of about 5.7 percent instead of the true rate in excess of 9 percent.

Please don’t take my word for this or these statistics. Go to www.shadowstats. com, a very informative website run by John Williams, a genuine skeptic who does a great job of cutting through a lot of government deception.

The bottom line is simple. The government is cooking the books. The inflation rate, the unemployment rate, and the economy are all much worse than published figures. In short, we as a nation are in “deep doo-doo.” The government’s answer, given the stated objectives of Fed head Bernanke—a.k.a Helicopter Ben—will be to print more and more currency; if necessary, “to drop hundred dollar bills from helicopters.” If you believe those hundred dollar bills will be worth very much, please come to my house where I will apply gold paint to some lead bars and sell them to you at 50 percent off the spot price of true gold bullion.

The message is clear and loud. Avoid stocks. Own gold and silver and some mining stocks! Ignore the popular myths and think for yourself. Gold, silver, and virtually all commodities have been crashing. Does that mean it is time to buy, or is it time to sell? Clearly there are massive deflationary forces at work. The credit crunch coupled with the de-leveraging of financial company balance sheets, massive redemptions from mutual funds and hedge funds, and the contraction of debt are all deflationary and generally result in lower prices for “everything.” “Everything” includes gold and silver and precious metal mining stocks. However, I believe that Bernanke, The Fed, The Treasury, and our elected officials will fight tooth and nail and avoid a deflationary depression. If, as, and when necessary, they will supply more and more liquidity. Ultimately, the purchasing power of the dollar will be decimated. I would therefore use any continuing weakness to buy gold and silver. My best guess, based on cyclical and seasonal factors, is that the precious metals will bottom in the October/November time frame, and that new highs for gold will be seen in 2009. That is my guess. I do not have a crystal ball!

And what if I prove to be totally wrong? Hopefully, you will be smart enough to ignore my advice, or I will be flexible enough to recant and see the errors of my way.

In the meantime, continue to send your comments and feedback to me:
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